BEIJING, Sept 7 (Reuters) – Beijing has publicly put its weight behind some state-owned firms struggling with oil derivatives losses, saying it will back them in any legal action against the foreign banks that sold the products.

In a statement on Monday, the State-owned Assets Supervision and Administration Commission said that some state-owned enterprises had sent letters to their trading partners about oil structured options trades, confirming a report in Caijing magazine last week that had sent shudders through the banking community.

“(SASAC) will support companies to minimise losses and protect rights through negotiations and holdings management. We also reserve the right to launch legal suits,” the agency said.

The move is the latest by SASAC to curb the over-the-counter derivatives business after a series of corporate commodity and forex hedging deals went spectacularly bad over the past 10 months, costing Chinese state firms billions of dollars.

Bankers were unhappy with the latest developments.

“If they declare bankruptcy, it is different. But if these companies are still in business, it is not acceptable for them to just walk away from the losses,” said a Singapore-based banker, who like others declined to be named due to the sensitive nature of the matter.

The agency did not specify the names of state firms and their trading partners involved in the issue.

A Singapore-based bank source told Reuters last week that Air China , China Eastern and shipping giant COSCO had issued almost identical notices to their foreign investment banks.

Lawyers said that the details of the contracts will be key in deciding whether Chinese state firms can just walk away from their loss-making commodity derivative trades.

“As far as I know, many of the contracts signed between foreign investment banks and Chinese state firms follow the International Swaps and Derivatives Association (ISDA) format,” a Beijing-based derivatives lawyers said.

“Usually the ISDA format allows the product-selling banks to choose the region and types of law their contract should be subject to,” said the lawyer, who declined to be named due to the sensitive nature of the issue.

That means that the investment banks can choose regions other than China to resolve their disputes with Chinese firms, and usually these contracts will be regarded as legal in other regions, the lawyer said.

The lesson for Chinese firms is that they have to increase their expertise about derivatives and make sure they have the right to choose Chinese law to settle their dispute with their banks, the lawyer added.

OIL OPTIONS PROBES

SASAC said in the statement that it was also investigating some state firms’ oil option trades and repeated that it would ban state firms from making speculative derivatives trades.

It also warned that state firms should choose trading partners carefully to steer clear of complex products.

Suffering big losses, some state firms have been complaining that their foreign investment banks sometimes did not reveal sufficient information about the potential risks of the products they are touting.

“The word is that these new directives from China are directed more towards exotic hedging instruments such as structured options, among others, than plain vanilla swaps,” said an oil derivatives trader with a bank.

“It would seem that some Chinese companies lost a lot of money on exotics without really understanding how the instruments work.”

Starting from January, SASAC has sent a series of warnings to crack down on the sale of derivative products by foreign banks to Chinese enterprises who bought protection against higher prices last year only to watch the market collapse.

In July, it ordered state companies to report their holdings of futures, options, forwards and swaps, and investment performances, to the watchdog within 10 working days of the end of each quarter.

For more details on derivatives regulation: [ID:nPEK207347]

For a timeline [ID:nSP481422]

For an analysis [ID:nSP508234] (Additional reporting by Yaw Yan Chong and Judy Hua in Singapore; Editing by Michael Urquhart)